Discuss the advantage and disadvantages of financial statement analysis. How can it help a manager make decisions and how might it mislead you? (Response should be a minimum of 400 words) • Use APA format for any quotations or citations you use to support your answer© BrainMass Inc. brainmass.com December 24, 2021, 11:37 pm ad1c9bdddf
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Advantages of financial statement analysis are that it helps use financial statements for future planning and decision making. The financial statements show the budget of the company. Another advantage is that a financial statement reveals how much the company earns per year in sales. These may fluctuate but the analyst is able to identify a pattern. Another advantage is that the internal strengths and weaknesses of the business are revealed by comparing the balance sheet with the income statement. The financial statements summarize the accounting process and give an insight into the business. An important advantage of the financial statement analysis is that it gives enables the investor to make a knowledgeable decision about investing (Lasher. W, 2013). Financial analysis also reveals if the company is following the required accounting standards. An important advantage is that analysts can look for companies in the same industry and compare the results with other companies and the industry average. The financial statement analysis has the advantage that the current performance can be compared with the past performance of the company.
Disadvantages of financial statement analysis: Different accounting practices lead to different comparisons and cause distortions. Balance sheet analysis can be deformed by inflation. For example, if there is high inflation in one year comparison with previous financial statements becomes misleading (Charalambos T. Spathis, 2002). An important disadvantage of financial statement analysis is that seasonal factors can disfigure the analysis. Unless the reader of financial statements has a good idea about seasonal effects the analysis can lead to mistakes. Also if the data in the financial statements is not reliable there can be limitations to the analysis. For example, errors in financial data can lead to wrong conclusions. Financial statement analysis has the disadvantage that it does not consider some key intangibles such as brand relationships, skills, and culture. If the financial statements are prepared inaccurately, the analyst and the user can be misled. Further, historical data does not allow forecasting for planning. There are several aspects of business that are not reflected in the financial statement such as labor relation, customer's satisfaction, management's skills, and decision making ability.
Financial statement analysis may help a manager review, and evaluate the financial performance. He can understand the financial health of the firm and improve his decision making. A manager can use financial statement analysis to determine the past, current, and projected performance of the company.
The financial statement analysis might mislead if the financial data is wrong, there are changes in accounting methods, or important information is provided in the notes. The financial statement analysis can mislead if the numbers are used separately and without insight into the industry and the business.
Charalambos T. Spathis, (2002) "Detecting false financial statements using published data: some evidence from Greece", Managerial Auditing Journal, Vol. 17 Iss: 4, pp.179 - 191
Lasher. W, (2013) Practical Financial Management, E7, Cengage Learning.